S149 of the Companies Act - A potential trap for directors of privately held companies

 The term "insider trading" is generally associated with share dealings in large publicly held companies, rather than share dealings in small privately held companies. However, directors of even the smallest of privately held companies need to be aware of section 149 of the Companies Act 1993, which provides an insider trading regime for directors of privately held companies when dealing in shares in their companies.
 
The law

Section 149 provides (broadly) that directors of a company who hold price sensitive, non-public information obtained in their capacity as a director must pay no less than "fair value" when buying securities in that company and must receive no more than "fair value" when selling them.  If a director fails to comply with that restriction he or she will be liable to the other party to the transaction for the difference between the "fair value" of the securities and the price actually paid.

The definition of "director" for this purpose includes "shadow directors" under section 126 of the Companies Act 1993 and therefore persons who exercise control over a director, or in accordance with whose directions or instructions a director is required or accustomed to act, will also be subject to this restriction.

What you need to know
Directors of privately held companies (and their advisers) need to be aware that:

• Section 149 overrides any express agreement a director might have as to the price to be paid for the sale or purchase of securities. This means that, for example, an express provision in a shareholders agreement, sale and purchase agreement or option agreement that shares will be sold for a fixed value, or a fixed discount to fair value, or for anything other than "fair value", may in effect not be enforceable in respect of shares sold or purchased by directors.
• Section 149 applies to the sale or purchase of shares by a director even if all price sensitive information held by that director was disclosed to or known by the other party to the transaction (or even if the other party to the transaction is a director of the company themselves). Thus, disclosure of the price sensitive information to the other party to the transaction will not have any effect on the application of section 149.

So what are your options?
The restriction under section 149 applies to share dealings by current directors only. Therefore the above restriction could be avoided by:

• Resigning as a director immediately prior to the relevant sale or purchase; or
• Transferring your shares to somebody else to sell or purchasing your shares through somebody else (such as a wholly owned company).

It may also be possible to seek an indemnity from the seller / buyer, although the enforceability of such an indemnity has yet to be tested by the courts.

When do you need to turn your mind to this?
A director of a privately held company will almost always hold some price sensitive, non-public information. Accordingly, section 149 is likely to be applicable, and therefore needs to be considered by such a director:

• Every time they agree to buy or sell shares in that company; and
• Every time they enter into an agreement which contemplates the sale or purchase of shares in that company (such as a shareholders agreement containing pre-emptive rights, a subscription agreement or a grant of a right of first refusal or option).

Pitt & Moore is a full service law firm. We can help you to deal with the above issue, and all of your other Property, Corporate, Company and Commercial law matters.
 
This article is a general overview and should not be used as a substitute for legal advice tailored to your specific circumstances.

Contact:
Geoff Caradus
Senior Solicitor
Pitt & Moore Lawyers, Nelson
DDI 03 545 6717
E geoff.caradus@pittandmoore.co.nz